REITS Catch A Tax Break From Congress

REIT managers' jobs will get a little easier thanks to provisions that were tacked on to the American Jobs Creation Act of 2004 that Congress passed in October. Most significantly, REITs will be able to avoid the fate that almost befell Pennsylvania REIT earlier this year when it nearly forfeited its REIT status due to a minor accounting mistake.

The bill clarifies disputed portions of the law brought to light in the five years since Congress passed the REIT Modernization Act. Specifically, the law mandates that REITs cannot own more than 10 percent of the securities of a company that is not a taxable REIT subsidiary. In February, PREIT was in jeopardy of losing its REIT status when it discovered that it did not treat a corporation in which it has had a 50 percent interest since October 2001 as a taxable REIT subsidiary. The IRS eventually ruled that PREIT could retain its REIT status. Losing such status would have forced the company to pay back taxes on its income for the past three years.

“Under the current law, there's a disproportionate and draconian result from an innocent mistake,” says Tony Edwards, senior vice president and general counsel for the National Association of Real Estate Investment Trusts. “What this bill would do instead is substitute penalties in many cases.” Under the new rules, REITs that make similar errors will be subject to $50,000 fines, but the mistake will not jeopardize their status.

The leasehold provision adjustment is also significant. Now it takes nearly 40 years to depreciate the amount spent on leasehold improvements even though most tenants' terms are much shorter than that. The Real Estate Roundtable estimates the legislation would save property owners $1.5 billion in taxes next year. But the provision would only be effective for 2006. The lobbying group plans to push for an extension.